Tax and Nonprofit: The Strict Requirements

Nonprofit accounting may seem overwhelming at times, but it becomes easier once you begin to understand how finances function and move within your organization. By using this info, you can implement best practices for effective accounting decisions.

With the right accounting practices, you can be compliant and transparent, creating reports that let donors see how their money is being used. Your nonprofit needs to establish a system to track and record your good work.

To ensure proper tax reporting and guarantee that you get the most value from volunteers, updating these records should be part of regular bookkeeping and accounting operations. The tracking system should be standardized across the organization.

What should you be tracking?

• Cash flow: a qualitative account describing how you manage your liquid resources to meet everyday expenses.
• Budget: created with your leadership or finance team using information from your development team and your group’s historic spending habits.
  • See your nonprofit budget as a planning document used to predict expenses and allocate resources. It includes costs incurred and revenue received.
  • Analyze your budget:
    • Your expected revenue can be calculated using historical numbers and either the cutoff method or the discount method.
      • The cutoff method requires you to take each separate revenue stream and multiply it by the probability that you’ll receive the funding.
      • The discount method requires you to take the entire expected revenue and factor it by the probability of receiving the revenue.
  • Divvy up the expenditures for your group into an expense budget with different categories that include, but are not limited to, fundraising expenses, administrative expenses and program expenses.
• Reference your budget frequently: While your independent board members are involved in the annual budget approval process, this shouldn’t be the only time you take a deep dive into your budget. Check in with your budget monthly, comparing and evaluating your budgeted revenue and expenses against actual numbers to ensure your group is staying on track to achieve goals.
• Don’t overthink overhead expenses: Overhead includes expenses to cover administrative costs, market your mission for fundraising, and pay for other internal expenses in order to grow. Essentially, overhead is anything that isn’t a program directly related to your mission.
  • Overhead is necessary for your group to function — to pay people to run it, to dedicate an office to get work done and to invest in a website to reach the public.
  • Some donors choose to judge nonprofits solely on their overhead expenses — but the narrative is changing. Encourage your donors to judge your organization based on your impact in the community rather than how much you spend on fundraising and administration.

What reports should you be zeroing in on?

• Statement of functional expense: breaks down expenditures into various categories and provides a function for each — program expenses, administrative expenses or fundraising activity expenses.
  • Helps when it’s time to complete your annual Form 990, which requires expenses to be separated in the same manner.
  • Since 2017, you’ve also been required to disclose the nature of the activities your nonprofit lists on the report, like what percentage of your postage needs are for marketing materials and direct-mail fundraisings versus administrative duties like paying bills.
• Statement of cash flow: shows how funding and cash moves into and out of your group. It allows you to gauge how much is available to pay your expenses at any given time. It can be broken down into operating, financing and investing activities to show how cash moves at your nonprofit. You can easily see how you’re using the funding from fundraising, grant seeking and other revenue streams via the statement.

And what can your accountant do for your organization?

Your accountant reviews bookkeeping entries, performs account and balance sheet reconciliations, prepares financial statements and reports, and reviews the financials with you prior to closing the monthly period so you can make the best financial decisions in managing your nonprofit.

The right accounting experts ensure your knowledge of and compliance with nonprofit tax and accounting regulations is up to par, preventing costly mistakes. The tax code for nonprofits can be confusing, but accountants can help you maintain your tax-exempt status.

To learn more about how our firm can serve your nonprofit organization, don’t hesitate to contact Kathy Corcoran at (302) 254-8240.

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